Regulating in the new abnormal

Regulating in the new abnormal

Regulators from around the world spoke about the problems of supervising markets in the “new abnormal” at the Global Emerging Markets (GEM) Regulatory Conference 2017 held in Kuala Lumpur recently.

In his opening remarks at the GEM conference, the Chairman of the Securities Commission Malaysia (SC), Tan Sri Dato’ Seri Ranjit Ajit Singh said global paradigms have changed, and “we are now regulating in what has been described as the new abnormal”.

“The sharp pace of technological innovation, the surge of economic nationalism and the proliferation of competitive deregulation is challenging the fabric of modern capital markets and impacting global regulatory and market equilibrium. As the world’s capital markets today make up more than half of global financial assets, and the shift towards market based financing becomes all the more pronounced, policy paradigms must also reflect the new reality.

“While a global approach to consistent regulation was a focus post the global financial crisis, recent geopolitical changes have brought uncertainty into our global regulatory system and unpredictability in the macro-policy environment. Although the extent of financial deregulation remains uncertain, this potential shift raises concerns of regulatory arbitrage which can thrive in an uncertain market environment. Intense competition for deal flows and resurgence of economic nationalism may also hasten the fragmentation of regulation and lead to widespread competitive deregulation.”

Tan Sri Dato’ Seri Ranjit Ajit Singh added that in a connected, complex and global marketplace, the increase in digital innovation could also pose challenges. Regulators will need to reassess their supervisory approach and expertise given that existing supervisory practices are largely predicated on human interface.

“ While we are navigating this new abnormal, we must also not lose sight of the need to reinforce good conduct and behaviour as misconduct risks continue to threaten the integrity of global markets. Corporate culture, board effectiveness, sales practices and the alignment of incentive structures are critical in ensuring fair outcomes to investors.”

Ranjit, who is also Vice Chairman of the International Organization of Securities Commissions (IOSCO) Board and Chairman of IOSCO’s Growth and Emerging Markets Committee, said that in the new environment, regulators will need to remain agile and innovative. This will require continuous reassessment of approaches and capabilities in safeguarding investor trust and confidence while addressing vulnerabilities in markets.

“The on-going dialogue among regulators must also continue to generate well-considered international efforts to reduce contagion risks. The global regulatory community must ensure that regulatory policies adopted fair, efficient and transparent markets and support capital formation while minimising the unintended consequences of regulation. In this regard, IOSCO is well placed to promote a collaborative approach with industry which will drive the growth of sustainable capital markets.”

Chairman of the IOSCO Board, Ashley Alder, emphasised three things the organisation did to promote regulation of markets – (1) standard setting, (2) cooperation between the various securities commissions and (3) capacity building.

Standard setting enables financial benchmarks for comparing markets and instruments and addresses such matters as the fragility of the derivative markets which can cause systemic risks.

As many transactions are cross border, regulators need to draw upon each other through cooperation agreements and memoranda of understanding to enable proper regulation and enforcement.

He cited the setting up of IOSCO’s Regional Asia Pacific Hub in Kuala Lumpur hosted by the SC as an example of capacity building, which amongst others provides technical assistance for smaller, growing markets to enable them to become more resilient.

In a special address at the conference on regulation in the new abnormal, Sir David Tweedie, Chairman of the International Valuation Standards Council and former Chairman of the International Accounting Standards Board said that investors are angry over misdeeds.

“Our present system of corporate governance is not working, so let’s leave the European Union, let’s elect Trump and then see what happens,” he quipped.

Highlighting the importance of standards, and especially valuation standards, he said that differences in valuations, using different standards can be as much as 140%. This has led to situations where profit and loss accounts and balance sheets of companies can be legally manipulated.

While securities regulators go for transparency, other regulators such as those who oversee banks fight for prudential regulation which is often shrouded in secrecy. Sir David added that while corporate governance was a concern, the high remuneration and rewards for CEOs, especially through schemes such as share options, gave rise to grave concerns and possibilities for problems in the future.

“The new abnormal may damn well become the new normal,” he said.

Alder, who is also Chairman of the Hong Kong Securities and Futures Commission, said during the panel discussion on regulating in the new abnormal that there was a short memory syndrome. He was referring to large company failures such as Enron and WorldCom, the Asian financial crisis of 1997/98, and the world financial crisis of 2007/8 amongst others which appear to have been forgotten in current times.

“Although much has been done in the past (to prevent financial crises) the process is not yet complete. Priorities have shifted and resources have been diverted. Is there political will to see it through?” he asked.

Some of the issues left unresolved include increasing equity levels for banks, resolving bank failures, shadow banking (banking practices undertaken by unregulated institutions) and derivatives.

Alder pointed out those levels of debt have not decreased while central bank firepower is weak despite talk of higher interest rates. At the same time, very few governments have the capacity to provide significant stimulus.

Another panellist, Andrew Sheng, a former Malaysian central banker and former Chairman of the Hong Kong Securities and Futures Commission asked if regulators are moving back towards deregulation. “Is regulation crimping growth, is it crimping equality?” he asked.

Sheng said that technology was a major disruptor in the financial markets so much so that telecommunications companies are technically capable of undertaking banking services but are only prevented from doing so by regulation.

Regulation was becoming increasingly complex with the rising complexity of capital markets. He likened markets to living things and said that it is reality that rules will eventually be gamed and it was necessary for regulations to change accordingly.

“Can you solve complexity with greater complexity? We need to move towards principles-based regulation,” he added.

Sheng said one problem Asia has to solve is to recycle Asian savings within Asia. “How do we recycle Asian savings within Asia to fuel growth? Why does the largest saving end up with the country with the largest leverage? If America (with Trump’s election) puts itself first who will take care of us (Asia)?” he said.

Masamichi Kono, Special Adviser to KPMG AZSA LLC and former Vice Minister for International Affairs of the Financial Services Agency of Japan said there were dark clouds because non-compliance of standards has had an impact on markets.

“Perhaps the route should be engagement to strengthen and enhance inclusiveness,” he said.

Over 30 countries from all parts of the world were represented at the conference.

IOSCO, established in 1983, has members from over 115 jurisdictions, and oversees capital markets worth about US$140 trillion, collectively regulating more than 95% of markets worldwide.

The Asia Pacific Hub located in Kuala Lumpur is expected to play a key role in helping build the region's capital markets (both individually and collectively), address regulatory gaps and strengthen the overall implementation of global standards in the region.

It will also contribute to strengthening the voice and priorities of the region in the international financial agenda. In addition, the Hub will also foster greater connectivity and inclusiveness and encourage greater cross border coordination and collaboration.

Through its initiatives, the Asia Pacific Hub will facilitate greater cross border regulatory cooperation and promote the transfer of knowledge, expertise and best practices from across IOSCO’s wide membership, which will contribute to overall efforts to strengthen the resiliency of the region’s capital markets.